Activision: Cramer Says Pass, I Say Jump Right In

First off let me disclose that I have owned shares of Activision (NASDAQ:ATVI) for over two years. In that time frame I have bought additional shares and it now makes up one of my two largest stock holdings. In July of this year I wrote an article that showed what my portfolio was made up of. At that time Activision shares were trading at $11.84 and I listed $14 as my price target by the end of the year. Shares have hit that $14 mark and actually set a fifty two week high shortly before the launch of the new Modern Warfare video game put out by Activision. Today I offer a review of the latest earnings report, the success of Modern Warfare 3, and my new price target.

First let me evaluate the Jim Cramer recommendation. On Thursday November 10th, Cramer said he would take a pass on Activision shares. Cramer largely ignores video game stocks as they are hard to figure out. The competition from social games has scared Cramer away from companies like Activision and Electronic Arts (ERTS) as they compete with Zynga and other companies who compete with free or cheap online games which users play daily. Cramer called gaming stocks "too hard to figure out" but I have to disagree.

Activision Blizzard is a large gaming company with two operating segments: video games and computer games. The video game segment consists of the popular Call of Duty blockbuster series, Wipeout, Spyro, and several video games that tie in with movies. On the Blizzard computer game side the company has World of Warcraft, Diablo, and Starcraft which sell as individual computer games and also as recurring monthly subscriber fees from World of Warcraft players. On October 31st, Cramer also took a pass at Activision stock. The company is the largest video game company in the world and pays a dividend as well. Let’s take a look at some recent highlights of the conference call to see what Cramer might have missed.

The third quarter for Activision proved to be very successful for the company. Some highlights include:

Company executives announced that lifetime to date sales of World of Warcraft and Call of Duty now rank with the Star Wars and Harry Potter franchises in terms of dollars made.

Strong performance of Skylanders, the latest game in the Spyro franchise, performing ahead of expectations.

Reported Revenue of $754 Million

Earnings Per Share for the Quarter of $0.13

Company still has a Great Balance Sheet with $2.9 billion and No Debt.

Activision reports new Outlook for 2011 of $4.33 billion and Earnings Per Share of $0.76 (raised by $0.08 of previous guidance)

Call of Duty: Black Ops sells more than 20 million map packs to date.

Let us dive in to some of these highlights and see how the latest games are doing for the company.

The newest Skylanders game is listed on several holiday toy lists as a must-have for the holiday. The game is aimed at children and is a good value as most packages come with a game, and three characters for the game. Amazon (NASDAQ:AMZN) has a separate store dedicated to the game and characters traded in packs of three or individually. Ebay (NASDAQ:EBAY) also has been a trading platform for characters playable in the game. A search done for Skylanders several days ago returned 1,241 results. The company is actually investing a lot into the Spyro series. A two minute trailer is premiering before Puss in Boots, Happy Feet Two, and the newest Muppets movie in theaters to promote the game in front of children and their parents. Anyone with kids know that when kids see a game like this on television they are likely to beg and plead for it up until Christmas.

Modern Warfare 3 has proved to be more successful than all of the Call of Duty games Activision has put out. The company said before the game came out they expected over 1.5 million midnight customers to wait in line to get their copy of Modern Warfare 3. My local Gamestop (NYSE:GME) had a line for over an hour and a half to hand out several hundred copies of the game that had been presold. Gamestop has done a good job of midnight releases of some of the most popular games. During the latest conference call, Activision also said that they expected over one million Call of Duty Elite Premium memberships to be purchased within a year. I wrote a previous article about how this add-on service could translate into hundreds of millions of dollar in revenue for the company in a model similar to World of Warcraft. If Activision can reach a million users of the premium service within a year it would be faster than Netflix (NASDAQ:NFLX) and XBOX Live both reached that significant milestone.

Blizzcon, the annual conference attended by computer game fanatics, was attended by over 26,000 people and also watched live online by over 1 million people around the World. The conference featured many upcoming products from Blizzard. The newest World of Warcraft expansion, Mists of Pandaria, was showcased in its world premiere with plenty of buzz. Starcraft 2 expansion pack Heart of the Swarm was shown to attendees as was a new multiplayer side of the game.

World of Warcraft is set for a strong year with its newest expansion pack. The company also attempts to enter a new market with a full launch of the game set for Brazil in December of 2011. Activision Blizzard also announced a new annual pass program to attempt to keep current users. Anyone who commits to 12 months of World of Warcraft received Diablo III for free. This is a likely move to combat against Electronic Arts newest Star Wars multiplayer game.

One of the things I do as a shareholder to follow how my company is doing is a monthly search of the Amazon Top 100 Video Games. A search several days ago revealed these Activision titles having strong sales on the leading e-retailer:

1. Call of Duty Modern Warfare 3 for XBOX 360

3. Call of Duty Modern Warfare 3 for Playstation 3

43. Wipeout the Game for Nintendo Wii

55. Diablo III Presale for PC

62. Skylanders Starter Pack for Nintendo Wii

87. Call of Duty Modern Warfare 3 for Nintendo Wii

93. Call of Duty Modern Warfare 3 for PC

94. XBOX 360 Bundle with Call of Duty Modern Warfare 3 Game

The Call of Duty game has been on this list for months as it racked up strong presale numbers on Amazon. Microsoft (NASDAQ:MSFT) also packaged the latest game together with its XBOX 360 console as a way to bundle together the hottest game with the bestselling video game console. Diablo III will continue to stay on the list before the game comes out as it is widely anticipated by gamers. Skylanders has continued to sell well as the Starter Pack is priced at $69.99 with the game and characters. Wipeout the game has sold surprising well and remained on the list for a long time as well. I will be monitoring this list periodically over the holidays to check in on Modern Warfare 3’s staying power and also to see how presales for Diablo 3, Mists of Pandaria, and Heart of the Swarm make the games gradually rise up the Top 100 video games list on Amazon.

The company has continued to generate a large amount of cash from the sale of video games and from its monthly subscriber revenue from World of Warcraft players. Look for Activision to raise its dividend from its current $0.165 annual amount. I also would not be surprised to see the company make a large acquisition into a smaller video game maker like Bethesda, THQ (THQI), Take Two (NASDAQ:TTWO), or a social game company like Zynga, depending on what its IPO puts its market capitalization at.

As a shareholder of Activision it is always promising to hear that the company has raised guidance for revenue and earnings. The company now expects earnings per share of $0.76 for fiscal 2011. That puts the shares at around 16x this year’s earnings. My prediction for earnings is $0.81 for the year and $1.00 for fiscal 2012. The success of World of Warcraft, Starcraft, Diablo, Spyro, and Call of Duty franchises will be seen throughout a twelve month span. Video game companies do not see this many blockbuster releases in this time frame most years. I am raising my share price to $16 by the end of 2011 and think shares could hit $20 by the end of 2012. Shares will dip a little when the Star Wars game is out. Use today’s announcement of Vivendi selling shares or the likely dip caused by Electronic Arts as great entry points into this company that Cramer passes on.

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